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BiotechLifting Big Pharma’s prospects with biologicsFindings from the MoneyTreeTM

ReportA quarterly survey produced by PricewaterhouseCoopers and the NationalVenture Capital Association based on data provided by Thomson ReutersMay 2009Table of contentsThe heart of the matter 4How Biotech is changing thepharmaceutical landscape.An in-depth discussion 6Biologics to drive drug innovation—despitedifficult conditions.M&A in 2009: Biotech buying spree? 12Whither biotech valuations? 13VC investment in human biotech still healthy despite economic turmoil 15Watching Capitol Hill 20What this means for your business 24Biologics likely to expand role in fuelingBig Pharma’s drug development.The heart of the matterHow Biotechis changing thepharmaceuticallandscape.The heart of the matter5PricewaterhouseCoopersBiotech companies face numerous challenges in 2009, led by dwindling cash reserves, asqueezed credit market and a poor IPO environment. However, recent events signal short- andlong-term benefits for the biotech industry. A spate of megamergers of major pharmaceuticalcompanies further underscores the growing need for pharmaceutical companies to diversifyportfolios with targeted biologic drug products. Also, biotech will likely—in the long term—bebuoyed by a strong push from the Obama administration to ramp up spending for basicbiomedical research and development of personalized medicine.As the so-called blockbuster drug “patent cliff” chips away at Big Pharma revenue, and in-house R&D continues with diminished returns on productivity, biotech firms will increasinglybe positioned to fill product pipeline gaps by sourcing new innovations and drug prospects—especially with diagnostic and therapeutic biologics.At the same time, venture capitalists are weathering the storm, plowing rounds of fundinginto their most prized biotech firms in the hope of an exit through an acquisition or, eventu-ally, through an IPO. Biologics, in particular, continue to shine as the bright spots—particularlytherapeutic and diagnostic monoclonal antibodies (mAbs) and immune response effectors(including vaccines and interferons)—with VC investment soaring by 45% and 90%, respec-tively, in 2008 over 2007, according to the MoneyTree™ Report, a quarterly study of venturecapital investment activity in the United States, produced by PricewaterhouseCoopers and theNational Venture Capital Association (NVCA) based on data provided by Thomson Reuters.Overall, VC investment in human biotech (excluding medical devices) fell by about 11% in2008 against 2007, yet drew some major deals in the 50-million-dollars to 100-million-dollarsrange. The survey also found that funding of biotech seed and start-ups rose sharply in 2008,while later-stage funding, though dropping slightly, was still relatively robust, demonstratingthat VCs are still investing in promising areas and holding firm—and expensive—positions inbiotech companies with the brightest exit prospects.Biotech companies (that survive cash shortages) with drug platforms that can potentially feedBig Pharma’s pipelines with biologics are in a propitious spot, with competition among cash-richpharmaceutical companies to diversify likely driving further acquisitions of biotech companiesin the half-billion- to billion -dollar range through 2009. Biotech companies struggling withsolvency issues will become increasingly more open to being acquired, even at lower-than-expected valuations.An in-depth discussionBiologics to drive druginnovation—despitedifficult conditions.7PricewaterhouseCoopersAn in-depth discussionDried-up credit, an anemic IPO market and a reluctant investor pool have taken their tollon the biotech industry. According to the Biotechnology Industry Organization (BIO), about45% of all publicly listed biotech companies are operating with less than one year of cashremaining. Prospects for biotech IPOs will likely remain dim in 2009 on the heels of a veryweak 2008, which produced just one IPO, raising $5.8 million, according to BioWorld.1Thatcompares to 41 IPOs raising $1.9 billion in 2007 and 32 IPOs raising $1.7 billion in 2006. Withthe IPO market effectively closed, cash-strapped biotech companies are looking to M&A exitpossibilities such as partnerships, alliances or other business combinations.It is the biologics sector which will likely drive such M&A activity. The global market forprotein-based therapeutics (peptides, proteins, enzymes and antibodies), for example, isestimated to grow at 15% per year over the next decade, according to Genetic Engineering &Biotechnology News.2Among biologics, monoclonal antibodies have emerged as a particularlyhigh-growth sector, with revenues estimated to grow at a CAGR of 16.9% from 2006 to2012 compared with 0.8% from sales of small molecule drugs.3As a subsector monoclonalantibodies are already estimated to comprise about 25% of the broad biopharmaceuticalmarket. In 2008, there were 20 New Molecular Entity (NME) FDA approvals and four newbiologics, compared to 16 NMEs and two biologics in 2007.4“There is a healthy market indeveloping biologics meeting unmet needs, such as Alzheimer’s, but they will probably needdata that demonstrates efficacy and safety with clinical endpoints, not simply surrogateendpoints. If they do that, they’ll get welcoming [FDA] approval,” said John E. Calfee, residentscholar, American Enterprise Institute for Public Policy Research. Additionally, generally-depressed valuations come at a time when pharmaceutical companies are filling their drugdevelopment pipeline in the face of fast-approaching “patent cliffs”.5However, biotech stocksjumped in late 2008 and early 2009, outperforming the S&P 500 and NASDAQ Composite forthe first time in about five years, which may provide biotech companies with some leveragewhen negotiating valuations with acquirers.1 Biotechnology Industry Statistics, Biotechnology Industry Organization, February 2009.2 Hiller, Andrea, Fast growth foreseen for protein therapeutics, Genetic Engineering & Biotechnology News, January 1, 2009.3 Pharma 2020: The Vision, PricewaterhouseCoopers, 2008.4 Thriving in 2008: Approvals, deals and other silver linings, BioWorld Financial Watch, January 5, 2009.5 Aldridge, Susan, Ph.D., Affitech exploits antibody discovery platforms, Genetic Engineering & Biotechnology News,January 15, 2008.Biologics versus conventional drugsBiologics Conventional and NME drugsLarge molecules (>5000 molecular weight) Small molecules (~500 molecular weight)Biotechnologically produced or isolatedfrom living sourcesChemically synthesizedComplex structure/mixtures(tertiary structure, glycosylated)Simple well-defined structureHigh target specificity Less target specificityGenerally parenteral administration(e.g., intravenous)Oral administration possible (pills)Can be antigenic*Generally not or unpredictably antigenic*Antigen is a substance that stimulates the production of an antibody.8Biotech: Lifting Big Pharma’s prospects with biologicsThe “patent cliff” effectThe cash crunch and inhospitable IPOclimate intersect as pharmaceuticalcompanies strive to fill product pipelinesand larger biotech companies look toexpand market share in biologic drugs. Asindicated in Figure 1, FDA approvals of NMEsand biologics have fallen as pharma R&Dspending has risen. Exacerbating matters areblockbuster drug patents facing expiration,leading to estimated losses averaging $16.4billion over the 2002 to 2013 period, asillustrated in Figure 2.PhRMA member R&D spend ($bn)NME and new biologics approved by FDANME: New molecular entity. Excludes vaccines,antigens and combination therapies which do not include at least one new constituent.* PwC estimate051015202530354045501997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007*R&D spend ($bn)0102030405060NMEs and biologics approvedFigure 2. Impending losses stack up due to “patent cliff”Figure 1. Diminished R&D productivity*05101520252001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015Average annual lossUS$16.4 bn$157billion sales exposed to generic competition by 2011Source: IMS Health Midas19969PricewaterhouseCoopersAn in-depth discussionA broad appeal of biologics is not only theirpipe-filling capability but also the potentialdifficulty for generic drug makers to replicatethe original branded biologic, thus potentiallyextending the revenue stream, even afterthe biologic goes off patent. Manufacturing(or, rather, cell- or tissue-based growing)processes of the pioneer biologics drugs are,in general, far more difficult to duplicate bygeneric drug makers compared to chemicallysynthesized drugs. “I think the big attractionto mAbs (monoclonal antibody) is not only theamazing medical results but also how difficultit will be to enter the biosimilars market withmAbs,” said American Enterprise Institutefor Public Policy Research resident scholarCalfee. “Once you have a mAb that reallyworks, it is not the biosimilar market thatwill compete,but other biologics companies that will findnew antibodies. For example, Avastin hasbeen on the market for 4 or 5 years, andalready it is seeing competition. That’s thedownside—you are inviting competition whenyou succeed,” Calfee added.Additionally, diagnostic biologic productsmay increasingly drive partnerships andacquisitions as drug companies seek todevelop biologic biomarkers for drugs eithercurrently marketed or even in development,in a push toward so-called companiondiagnostics. The FDA’s Office of CombinationProducts (OCP), established in 2002 tooversee diagnostic-drug combinations,received 333 applications for combinationproducts in 2007, up from 236 in 2006.1, 21 FY 2007 Performance Report to Congress from the Officeof Combination Products, Food and Drug Administration,Department of Health and Human Services, 2007.2 FY 2006 Performance Report to Congress from the Officeof Combination Products, Food and Drug Administration,Department of Health and Human Services, 2006.PhRMA member R&D spend ($bn)NME and new biologics approved by FDANME: New molecular entity. Excludes vaccines,antigens and combination therapies which do not include at least one new constituent.* PwC estimate051015202530354045501997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007*R&D spend ($bn)0102030405060NMEs and biologics approvedFigure 2. Impending losses stack up due to “patent cliff”Figure 1. Diminished R&D productivity*05101520252001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015Average annual lossUS$16.4 bn$157billion sales exposed to generic competition by 2011Source: IMS Health Midas199610Biotech: Lifting Big Pharma’s prospects with biologicsThe convergence of pharmacogenomics(pairing drugs only with patients whosebiology will respond to them) andtherapeutics has in large part changedthe landscape of biopharmaceuticals. Aclassic example is Herceptin, Genentech’smonoclonal antibody which was FDAapproved in 1998 to treat women withadvanced, genetically tested HER2 positivebreast cancers. GlaxoSmithKline’s Tykerbis also used for HER2-positive patients.Recently, people with a normal K-rasgene in tumors were found to respond toErbitux/Vectibix. ImClone (Erbitux) andAmgen (Vectibix) used data from paststudies to demonstrate that these drugsbest benefited patients with a normal K-rasgene. About 40% of patients have mutantK-ras tumors. ImClone and Amgen arerequesting the FDA’s permission to notifyphysicians that patients with the mutantK-ras gene should not use these drugs.Genentech has stated that Avastin iseffective in patients with both the mutantand normal K-ras gene.Biomarker + therapy: Biologic’s lock and key11PricewaterhouseCoopersAn in-depth discussionFigure 3. What are some marketed biologics?General category MoneyTreeTMsubsector MarketedexamplesComponents UseMonoclonalantibodiesTherapeutic monoclonal antibodies HumiraTM

Roche followed suit in March, upping its bidto $46.8 billion to buy the remaining 44% ofGenentech’s shares it doesn’t already own,and will wholly own the biotech pioneer’sstrong cancer drug portfolio and researchpipeline. Merck’s March announcement toacquire Schering-Plough for $41.1 billionjoined Big Pharma’s chorus to diversify intohigh-growth biologics. Additionally, Schering-Plough had strengthened its foothold inbiologics when it acquired Dutch biotechcompany Organon BioSciences in 2007.Other megamergers in 2008 included Eli Lillyand Co.’s purchase of ImClone Systems Inc.,and Takeda Pharmaceuticals Ltd.’s purchaseof Millennium Pharmaceuticals Inc.Other high-profile mergers includedCephalon’s February takeover bid forAustralia’s Arana Therapeutics for $202million, in a move to bolster its pipeline ofbiologics by acquiring Arana’s inflammatorydisease and oncology biologic compounds.In January, Cephalon and CeptionTherapeutics, Inc. entered into an optionagreement providing Cephalon with an optionto purchase all outstanding capital stock ofCeption. Ception is developing reslizumab,a humanized monoclonal antibody currentlyin clinical trials to treat pediatric eosinophilicesophagitis and eosinophilic asthma inadults. If reslizumab is ultimately approved—and the purchase option exercised—1 Pfizer to buy Wyeth for $68 billion, cuts dividend, Reuters,January 26, 2009.2 Pfizer CEO: Wyeth takeover will be different, Business Week,January 26, 2009.Cephalon would have the opportunity toenter the biologics market.3What effect will these megamergers have onmerger and acquisition activity with small andmedium-sized biotech companies? Likely, thebest acquisition targets will have an attractivevaluation, low risk and the right fit. “In thenear term, big pharma will expect more andpay less,” said Vijay Lathi, partner with NewLeaf Partners. “With regards to biologics, Ithink the message is that their cost will needto be justified in terms of outcomes to getthe type of reimbursement we’ve historicallyseen. In other words, reimbursement willcome under pressure,” Lathi added.It is possible, however, that the combinedentities of the megamergers will not bepositioned to go on a buying spree ofsmaller biotech companies until theirintegrations wind down. “These mergerscertainly require great attention within thesecompanies,” said Alan Eisenberg, ExecutiveVice President for Emerging Companies andBusiness Development at the BiotechnologyIndustry Organization (BIO). However, oncepreoccupation of rationalizing these mergercompanies is completed, there may be anuptick in acquisitions of biotech firms whichadd to acquirers’ pipelines. And, naturally,other major pharmaceutical and biotechcompanies may well answer with their ownmoves into biologics-focused acquisitions.“The market seems to be presently orientedtoward later-stage companies with positivecash flow or early-stage companies withplatforms that have multiple applications,”added Eisenberg. “However, it’s not clearright now when we’ll start to begin to seemore M&A of smaller biotech companies.”Eisenberg added.3 Cephalon is offering to pay $202 million for AranaTherapeutics, Genetic Engineering & Biotechnology News,February 27, 2009.13PricewaterhouseCoopersAn in-depth discussionThe NASDAQ Biotechnology Index fellroughly 60% in the March 2008-March 2009period, helping to drive down valuations ofprivate biotech companies. As valuationsfall and companies continue to experiencedifficulty in securing credit, these conditionswill likely result in an uptick in M&Aactivity across the bandwidth, resultingin biotech-biotech and pharma-biotechdeals — especially for biotech companieswhose valuations are attractive and carrylimited relative risk. Despite the stock priceslide of biotech companies, the NASDAQBiotechnology Index outperformed the S&P500 in early 2009—for the first time since2004 (see chart below). It outperformedthe NASDAQ Composite index in October2008, since underperforming since May2003. Should this trend persist, it may resultin actually lifting valuations of acquisitiontargets in private biotech companies. Thisrising trend could also very well have been aresult of investors “building in” a consensusof market anticipation that the largepharmaceutical deals are a curtain-raiser tofurther acquisitions across the biotech sector.NASDAQ Composite (COMP)S&P 500 (SPX)NASDAQ Biotechnology (NBI)Figure 4. Biotech stocks outperforms general markets in early 200960801201001401601801/2/20043/2/20045/2/20047/2/20049/2/200411/2/20041/2/20053/2/20055/2/20057/2/20059/2/200511/2/20051/2/20063/2/20065/2/20067/2/20069/2/200611/2/20061/2/20073/2/20075/2/20077/2/20079/2/200711/2/20071/2/20083/2/20085/2/20087/2/20089/2/200811/2/20081/2/20093/2/20094/27/2009Whither biotech valuations?14Biotech: Lifting Big Pharma’s prospects with biologicsContinued partnering, alliance activityShort of diving into acquisitions,pharmaceutical companies have waded intobiologics through a spate of collaborativeefforts to diversify in both product linesand geographic market penetration. Suchalliances enable pharmaceutical companiesto mitigate risks in the event that a promisinginnovation does not realize commercialviability. For example, GlaxoSmithKlineentered into a $1.4-billion pact withOncoMed Pharmaceuticals to licensemonoclonal antibody cancer therapies inlate 2007.1Alnylam Pharmaceuticals forgeda billion-dollar deal with Japan’s TakedaPharmaceuticals Co. Ltd. focusing on RNAi(RNA interference) therapies for cancer andmetabolic disease.2Isis PharmaceuticalsInc. and Genzyme Corp., too, partnered in adeal that could be worth $2 billion (pendingachieving certain research milestones)which includes licensing mipomersen,Isis’ cholesterol drug targeting RNA thatengineers the production of heart disease-causing proteins.3In 2008, MorphoSysand Galapagos forged an alliance aimed atdeveloping therapeutic antibody productstargeting bone and joint disease.4Novartisand Lonza established a partnership, inwhich Lonza would provide Novartis greatermanufacturing capabilities of biologics drugs.5